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business
foundations of finance
Questions and Answers of
Foundations of Finance
Ante enterprise has the following items in its income statement: sales were $1,250,000; operating expenses were $325,000; cost of goods sold came to $650,000; interest expense was $50,000; interest
What is the basic purpose of financial analysis?
How does a firm use financial ratios? Who else might use financial ratios and why?
Where can we find financial ratios for different companies or for peer groups?
What information about the firm is provided by liquidity measures?
Describe the two perspectives available for measuring liquidity.
Why might a very high current ratio actually indicate there’s a problem with a firm’s inventory or accounts receivable management? What might be another reason for a high current ratio?
Why might a successful (liquid) firm have an acid-test ratio that is less than 1?
Which number in a company’s income statement should be used to measure its profitability relative to its total assets? Why?
What two broad areas of the firm’s management does the operating return on assets assess?
What factors influence the operating profit margin?
A low total asset turnover indicates that a firm’s total assets are not being managed efficiently.What additional information would you want to know when this is the case?
What information is provided by the debt ratio?
Why is it important to calculate the times interest earned ratio, even for firms that have low debt ratios?
Why does operating income not give a complete picture of a firm’s ability to service its debt?
How is a company’s return on equity related to the firm’s operating return on assets?
How is a company’s return on equity related to the firm’s debt ratio?
What is the upside of debt financing? What is the downside?
What determines if a firm is creating or destroying shareholder value?
What measures can we use to determine whether a firm is creating shareholder value?
What is indicated by a price/book ratio that is greater than 1? Less than 1?
How does the information provided by a firm’s price/book ratio differ from that provided by its price/earnings ratio?
How do the profits shown in an income statement differ from economic profits?
When comparing a firm to its peers, why is it difficult to determine the industry to which the firm belongs?
Why do differences in the accounting practices of firms limit the usefulness of financial ratios?
Why should you be careful when comparing a firm with industry norms?
What is the approach by which we can effectively interpret a firm’s financial ratios?
What cautionary step should be taken when standards (norms) are used to interpret a firm’s financial ratios? Discuss briefly.
Go to the website of Siemens. Download the company’s latest annual report and look at segment C, which provides details of Siemen’s financial performance.Explore which ratios are presented and
In 2015, Token Corporation reported $1,230,000 in sales, cost of goods sold of $520,000, and operating expenses of $440,000. The increase in the retained earnings was $50,000. The number of common
Blackberry Co. has experienced some difficulties financing its short-term expansion plans for its business. Blackberry Co. financed the construction of a new warehouse with a long-term loan from a
In 2015, Noble Corporation earned an operating profit margin of 15 percent and realized total asset turnover of 2.a. Calculate the operating return on assets in 2015.b. If the sales were $1 million
Star Inc. has two divisions, A and B, and would like to evaluate the contribution of each division to the value of the company as a whole. Star Inc. traditionally uses operating return on investment
In order to be able to use industry average or benchmark to interpret a firm’s performance, it is necessary to determine the industry to which the firm belongs. Eurostat, a provider of statistics
Bubble Co. has $10 million in assets that are financed 60 percent by equity and 40 percent by debt. The interest rate on debt is 7 percent while the opportunity cost of equity capital is estimated to
Superior Europe, is a medium-sized company, located in the Netherlands, and has successfully been doing business in the matting industry for 15 years now. Its business model is based on the sales of
Principle 2 states that “money has a time value.” Explain this statement.
Explain the formula FVn = PV(1 + r)n.
What is an amortized loan?
What is the relationship between the interest rate and number of years on an amortized loan and the total amount of interest paid?
Why does the future value of a given amount increase when interest is compounded nonannually as opposed to annually?
How do you adjust the present and future value formulas when interest is compounded monthly?
How would you calculate the present value of an investment that produced cash flows of $100 received at the end of year 1 and $700 at the end of year 2?
When r, the annual interest (or discount) rate, increases, what happens to the present value of a perpetuity? Why?
Suppose you are considering taking consumer loan from bank for one year. Usually, for short-term loans, the bank offers 12 percent interest that compounds annually.Your credit application has been
If we place $1,000 in a savings account paying 5 percent interest compounded annually, how much will our account accrue to in 10 years?
If we invest $500 in a bank where it will earn 8 percent interest compounded annually, how much will it be worth at the end of 7 years?
If you put $1,000 into an investment paying 20 percent interest compounded annually, how much will your account grow to in 10 years?
What is the present value of $500 to be received 10 years from today if our discount rate is 6 percent?
You’re on vacation in a rather remote part of Florida and see an advertisement stating that if you take a sales tour of some condominiums “you will be given $100 just for taking the tour.”
What is the present value of an investment that yields $1,000 to be received in 7 years and $1,000 to be received in 10 years if the discount rate is 6 percent?
How much must we deposit in an 8 percent savings account at the end of each year to accumulate $5,000 at the end of 10 years?
What is the present value of a 10-year $1,000 annuity discounted back to the present at 5 percent?
Forty-three states run lotteries, and most of those lotteries are similar: You must select 6 out of 44 numbers correctly in order to win the jackpot. If you come close, there are some significantly
You’ve just received your first credit card and the problem is the rate. It looks pretty high to you. The quoted rate, or APR, is 21.7 percent, and when you look closer, you notice that the
If we place $100 in a savings account with an APR of 12 percent compounded quarterly, what will our investment grow to at the end of 5 years?
In 2015 the average U.S. household owed about $10,000 in credit card debt, and the average APR on credit card debt was about 13.0 percent compounded monthly. On many credit cards the minimum monthly
What is the present value of a $500 perpetuity discounted back to the present at 8 percent?
New Wave Surfing Stuff Inc. is a manufacturer of surfboards and related gear thatsells to exclusive surf shops located in several Atlantic and Pacific mainland coastaltowns as well as several
What are the two major objectives of the firm’s cash management system?
You own $10,000. The dollar spot rate in Tokyo is 216.6743. The yen rate in New York is given in the preceding table. Are arbitrage profits possible? Set up an arbitrage scheme with your capital.
U.S. firm needs to pay 10,000 Swiss francs to a firm in Switzerland, how much is this in U.S. dollars? COUNTRY CONTRACT S/FOREIGN CURRENCY Canada-dollar Spot 0.8437 30-day 0.8417 90-day 0.8395
Is the evaluation of a direct foreign investment more complicated than the evaluation of a domestic investment?
On July 1, 2018, the Southwest Forging Corporation arranged for a line of credit with the First National Bank (FNB) of Dallas. The terms of the agreement call for a $100,000 maximum loan with
On February 3, 2018, the Burlington Western Company plans a commercial paper issue of $25 million. The firm has never used commercial paper before but has been assured by the firm placing the issue
Historical data for the sales, accounts receivable, inventories, and accounts payable for the Crimson Mfg. Company follow:a. Calculate Crimson’s days of sales outstanding and days of sales in
Ramsey Liquors owns and operates a chain of beer and wine shops throughout the Dallas-Fort Worth metroplex. The rapidly expanding population of the area has resulted in the firm requiring a growing
Lewis Printing has projected its sales for the first 8 months of 2019 as shown in the table below.Lewis collects 20 percent of its sales in the month of the sale, 50 percent in the month following
The Sharpe Corporation’s projected sales for the first 8 months of 2019 are shown in the corresponding table.Of Sharpe’s sales, 10 percent is for cash, another 60 percent is collected in the
Findlay Instruments produces a complete line of medical instruments used by plastic surgeons and has experienced rapid growth over the past 5 years. In an effort to make more accurate predictions of
The Caraway Seed Company has grown rapidly over the last decade and is trying to forecast the firm’s inventory requirements for the next 5 years. Historical sales and inventories for the last 10
In November of each year, the CFO of Barker Electronics begins the financial forecasting process to determine the firm’s projected needs for new financing during the coming year. Barker is a small
The balance sheet of the Boyd Trucking Company (BTC) shows that BTC had sales for the year ended December 31, 2018, of $25 million. The firm follows a policy of paying all net earnings out to its
Use the following industry-average ratios to construct a pro forma balance sheet for Karen’s Beauty Products, Inc. Total asset turnover 2.0 times Average collection period (assume 365-day year) 30
Jimmie’s micro brewery is located in downtown Ruston, Louisiana in a restored section of the old Ford dealership. Jimmie sells his beer both to retail customers that visit his brewery and also
T. Jarmon, Inc. has been in business for 1 year, and the CFO expects that the relationship between firm sales and its operating expenses, current assets, its assets, and current liabilities will
Define each of the following dates and place them in their proper order with respect to the payment and receipt of cash dividends: date of record, ex-dividend date, declaration date, and payment date.
The Patterson Trucking Company needs to expand its fleet by 40 percent to meet the demands of two major contracts it just received to transport military equipment from manufacturing facilities
Final earnings estimates for the Smithfield Meat MyLab Packing Company have been prepared for the CFO of the company and are shown in the following table. The firm has 4,000,000 shares of common
Explain the notion of a perfect capital market. Use common-sense language such as you might use in explaining the concept to your grandfather who has never taken a finance class.
Cranfield Enterprises has just completed its annual planning and budgeting process and needs to raise $20 million to finance its capital expenditures for the coming year. The firm earned $18 million
In May of 2017, Apple (AAPL) announced that it would increase its dividend to $13.22 billion annually which surpassed Exxon Mobil’s (XOM) $12.77 billion payout. Apple’s 2017 net income was $48.35
How does a firm’s liquidity position affect the payment of dividends?
What is meant by the term dividend payout ratio?
Camping USA Inc. has been operating for only 2 years in the outskirts of Albuquerque, New Mexico, and is a new manufacturer of a top-of-the-line camping tent. You are starting an internship as
Imagine that you were hired recently as a financial analyst for a relatively new, highly leveraged ski manufacturer located in the foothills of Colorado’s Rocky Mountains. Your firm manufactures
Wildhorse Resource Development of Houston, TX (WRD) is an independent oil and natural gas company focused on the acquisition, exploration, development and production of oil, natural gas, and NGL
A group of retired college professors has decided to form a small manufacturing operation that will produce a full line of traditional office furniture. The investors have proposed two financing
Bill and Kate Theil are not only husband and wife but entrepreneurs who have established three successful businesses. The proposed plan for their latest effort involves a series of international
The C. M. Quarles Distributing Company manufactures an assortment of cold air intake systems for high-performance engines. The average selling price for the various units is $300 and the associated
Rockstar, Inc. manufactures a complete line of men’s and women’s casual shoes for independent merchants. The average selling price of its finished product is $85 per pair. The variable cost for
Specialty Steel, Inc. will manufacture and sell 400,000 units next year. Fixed costs will total $350,000, and variable costs will be 70 percent of sales.a. The firm wants to achieve a level of
You have developed the following income statement for the Hugo Boss Corporation. It represents the most recent year’s operations, which ended yesterday.Sales
Which of the following sources of new earnings volatility demonstrates the effect of business versus financial risk (discuss the rationale for your decisions):a. Bowson Mfg, Inc. recently constructed
Explain what is meant by the EBIT-EPS indifference point as it applies to making a financing decision.
What is the primary weakness of using EBIT-EPS analysis as a tool for evaluating the merits of borrowing versus issuing more stock?
Break-even analysis assumes linear revenue and cost functions. In reality, these functions may not always be linear over large output and sales levels. Why?
Distinguish between business risk and financial risk. How do these sources of risk contribute to the overall risk of a firm?
In 2012 AT&T (T) borrowed $3 billion by issuing bonds in the public bond market. Although this may sound like a lot of money, AT&T owed almost $65 billion in corporate debt at the end of
The Shome Corporation, a firm in the 21 percent marginal tax bracket with a 15 percent required rate of return or cost of capital, is considering a new project. The project involves the introduction
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